CUET UG Economics Booster Test 2 - Equilibrium and Determination -

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CUET UG Economics Booster Test 2 - Equilibrium and Determination

⏱️ 30 Minutes

❓ 20 Questions

📌 Answers are locked once submitted — results and explanations appear at the end.

CUET UG Economics Booster Test 2 - Equilibrium and Determination

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QUESTION 1 OF 20

In the first stage of macroeconomic theory, why is the assumption of a fixed price level technically justified?

Answer Review

1 In the first stage of macroeconomic theory, why is the assumption of a fixed price level technically justified?

A Governments do not allow firms to change prices over the short run.

B Consumers instantly refuse to buy goods if prices fluctuate.

C The marginal propensity to save dictates fixed aggregate supply prices.

D The law of diminishing returns does not apply because of unused resources.

💡 Short Explanation

The economy is assumed to have unused labour, machinery, and other resources. Firms can increase production without significantly increasing marginal costs. Therefore, prices remain fixed in the short run.

✅ Correct Answer Explanation

In the simple Keynesian model, the economy initially operates below full employment with abundant unused resources. Because additional units of output can be produced without facing increasing marginal costs, the law of diminishing returns is not operative in this stage. Consequently, firms expand output instead of raising prices. Hence, Option D is correct.

❓ Why Other Options Are Incorrect

Option A) Incorrect because the model does not assume government price controls.
Option B) Incorrect because consumer behaviour is not the reason for fixed prices.
Option C) Incorrect because the Marginal Propensity to Save (MPS) has no role in fixing prices.

🎯 Strategy

Used

Concept Identification

Application: Recall the basic assumptions of the Keynesian short-run model.

Final Logic: Unused resources prevent diminishing returns from operating, allowing prices to remain fixed. Therefore, Option D is correct.

🧠 Memory Trick

"Unused Resources → No Diminishing Returns → Fixed Prices."

📚 Chapter: Determination of Income and Employment

2 Assertion (A): The price level does not vary even if the quantity produced changes in this short-run scenario.
Reason (R): Additional output can be produced without increasing marginal cost due to available unused resources.

A Both false

B A true, R false

C Both true, R explains A

D A false, R true

💡 Short Explanation

The Keynesian short-run model assumes a fixed price level. Unused resources enable firms to increase output without increasing marginal cost. Thus, the Reason correctly explains the Assertion.

✅ Correct Answer Explanation

Assertion (A): True. In the first stage of macroeconomic analysis, prices are assumed to remain fixed while output changes. Reason (R): True. Since labour and machinery are underutilised, firms can expand production without facing rising marginal costs. The Reason directly explains why the price level remains unchanged. Hence, Option C is correct.

❓ Why Other Options Are Incorrect

Option A) Incorrect because both statements are true.
Option B) Incorrect because the Reason is also true.
Option D) Incorrect because the Assertion is true.

🎯 Strategy

Used

Assertion–Reason Analysis

Application: Evaluate the truth of both statements and determine whether the Reason explains the Assertion.

Final Logic: Both statements are true, and the Reason provides the correct explanation for the Assertion.

🧠 Memory Trick

"Unused Resources Keep Costs—and Prices—Stable."

📚 Chapter: Determination of Income and Employment

3 If an economy's linear consumption equation is represented as
C=100+0.8Y,
what does the value 0.8 graphically correspond to in the formula Y=a+bX?

A The intercept of the line 'a'.

B The slope of the line 'b' or tangent θ.

C The completely independent variable X.

D The fixed level of final aggregate demand.

💡 Short Explanation

In a straight-line equation, the coefficient of the independent variable represents the slope. Here, 0.8 measures how much consumption changes when income changes. Graphically, it is the slope (or tan θ) of the consumption function.

✅ Correct Answer Explanation

The consumption function is: C=100+0.8Y Comparing it with the linear form: Y=a+bX, we identify: 100 as the intercept (a). 0.8 as the slope (b). In economics, this slope is the Marginal Propensity to Consume (MPC), indicating that consumption increases by ₹0.80 for every additional ₹1 of income. Hence, Option B is correct.

❓ Why Other Options Are Incorrect

Option A) Incorrect because 100 is the intercept, not 0.8.
Option C) Incorrect because Y is the independent variable in the consumption function.
Option D) Incorrect because 0.8 does not represent Aggregate Demand.

🎯 Strategy

Used

Formula-Based Concept

Application: Compare the consumption function with the standard linear equation and identify the slope.

Final Logic: The coefficient of income (0.8) is the slope of the consumption function and represents the MPC. Therefore, Option B is correct.

🧠 Memory Trick

"Coefficient = Slope = MPC."

📚 Chapter: Determination of Income and Employment

4 Graphically, if the autonomous consumption in an economy suddenly increases due to an exogenous factor, _________.

A the intercept of the consumption function increases, shifting the curve upwards in parallel.

B the intercept remains the same, but the curve swings steeply upward.

C the X-axis shifts downward, simulating an artificial boost in Y.

D the intercept drops to zero to offset the new investment.

💡 Short Explanation

Autonomous consumption determines the intercept of the consumption function. An increase in autonomous consumption raises the intercept. Since MPC remains unchanged, the entire consumption curve shifts upward in parallel.

✅ Correct Answer Explanation

The consumption function is: C=C+cY where: C is autonomous consumption (intercept). c is the slope (MPC). If C increases while c remains unchanged, every level of consumption increases by the same amount. Therefore, the consumption function shifts parallel upward without any change in its slope. Hence, Option A is correct.

❓ Why Other Options Are Incorrect

Option B) Incorrect because the slope changes only when MPC changes.
Option C) Incorrect because the coordinate axes do not shift.
Option D) Incorrect because autonomous consumption does not become zero due to investment changes.

🎯 Strategy

Used

Concept Identification

Application: Identify whether autonomous consumption affects the intercept or the slope.

Final Logic: An increase in C changes only the intercept, producing a parallel upward shift. Therefore, Option A is correct.

🧠 Memory Trick

"Autonomous Changes → Parallel Shifts."

📚 Chapter: Determination of Income and Employment

5 Conceptually, the intercept Con the consumption curve graph is critical because it represents consumption that occurs when ________.

A the level of income is strictly zero.

B the aggregate demand perfectly equals aggregate supply.

C the marginal propensity to save equals 1.

D the unused resources are fully exhausted.

💡 Short Explanation

Autonomous consumption occurs even when income is zero. It is represented by the intercept of the consumption function. Therefore, the intercept equals consumption at zero income.

✅ Correct Answer Explanation

The consumption function is: C=C+cY When income is zero, Y=0 then C=C Thus, the intercept C measures the amount households consume even without any current income. Hence, Option A is correct.

❓ Why Other Options Are Incorrect

Option B) Incorrect because equilibrium is determined by AD = AS, not by the intercept.
Option C) Incorrect because MPS has no relation to the intercept.
Option D) Incorrect because unused resources do not determine autonomous consumption.

🎯 Strategy

Used

Concept Identification

Application: Recall the economic meaning of the intercept in the consumption function.

Final Logic: At Y = 0, consumption equals C. Therefore, Option A is correct.

🧠 Memory Trick

"Zero Income, Still Consume."

📚 Chapter: Determination of Income and Employment

6 The Marginal Propensity to Consume (MPC) defines the rate of change of consumption as income changes. On a graph, it represents:

A The vertical axis coordinate.

B The mathematical slope of the consumption function.

C The intersection point with the 45° line.

D The autonomous gap between AD and C.

💡 Short Explanation

MPC measures how much consumption changes with income. Graphically, this is shown by the slope of the consumption curve. The steeper the slope, the higher the MPC.

✅ Correct Answer Explanation

MPC is defined as: MPC=ΔC/ΔY In the consumption function, C=C+cY, the coefficient c is the slope of the line. Graphically, it is represented by the tangent of the angle (tan θ) or the slope of the consumption function. Hence, Option B is correct.

❓ Why Other Options Are Incorrect

Option A) Incorrect because the vertical axis measures consumption, not MPC.
Option C) Incorrect because the 45° line is used to determine equilibrium, not MPC.
Option D) Incorrect because there is no "autonomous gap" representing MPC.

🎯 Strategy

Used

Formula-Based Concept

Application: Relate the definition of MPC to its graphical interpretation.

Final Logic: Since

MPC=ΔC/ΔY,
it is represented by the slope of the consumption function, making Option B correct.

🧠 Memory Trick

"MPC = Measure of the Plane's Climb (Slope)."

📚 Chapter: Determination of Income and Employment

7 Which combination describes the necessity of the horizontal investment line in this specific two-sector model?

A It indicates that investment fluctuates wildly with consumer demand.

B It proves that producers reduce investment when GDP grows.

C It shows that planned investment is completely independent of the level of income.

D It guarantees that ex post investment equals zero at all times.

💡 Short Explanation

In the simple two-sector Keynesian model, investment is assumed to be autonomous. Autonomous investment does not depend on income. Therefore, it is represented by a horizontal line.

✅ Correct Answer Explanation

The model assumes: I=I where Ī is autonomous investment. This means firms plan to invest the same amount regardless of the current level of national income. Since investment remains constant, the investment function is drawn as a horizontal line parallel to the X-axis. Hence, Option C is correct.

❓ Why Other Options Are Incorrect

Option A) Incorrect because autonomous investment does not fluctuate with consumer demand.
Option B) Incorrect because investment is assumed independent of GDP in the simple model.
Option D) Incorrect because ex post investment may include unplanned inventory changes and is not always zero.

🎯 Strategy

Used

Concept Identification

Application: Recall the assumption of autonomous investment in the two-sector Keynesian model.

Final Logic: Since planned investment is independent of income, the investment function is horizontal. Therefore, Option C is correct.

🧠 Memory Trick

"Autonomous Investment = Flat Line."

📚 Chapter: Determination of Income and Employment

8 Arrange the logical steps of how an exogenous variable like credit availability affects the autonomous investment level.
Statements:
1. Producers decide to increase their autonomous investment (I).
2. The horizontal investment line permanently shifts upward.
3. Firms gain easier access to investible funds.
4. The reduced cost of borrowing encourages expansion.

A 2, 1, 4, 3

B 4, 3, 2, 1

C 1, 4, 3, 2

D 3, 4, 1, 2

💡 Short Explanation

Improved credit availability gives firms easier access to investible funds. Lower borrowing costs encourage firms to expand investment. Firms increase their planned autonomous investment. The autonomous investment function shifts upward graphically.

✅ Correct Answer Explanation

The logical sequence begins when firms gain easier access to investible funds (3) because of improved credit availability. As credit becomes more accessible, the reduced cost of borrowing encourages firms to expand their investment plans (4). Motivated by these favourable financial conditions, producers increase their autonomous investment (I)(1). Since autonomous investment rises at every level of income, the horizontal investment line shifts permanently upward (2) on the graph. Thus, the correct logical sequence is: 3 → 4 → 1 → 2 Hence, Option D is the correct answer.

❓ Why Other Options Are Incorrect

Option A → Incorrect because it starts with the final graphical outcome instead of the initial improvement in credit conditions.
Option B → Incorrect because the reduction in borrowing cost occurs after firms gain access to credit, not before.
Option C → Incorrect because firms cannot increase autonomous investment before favourable credit conditions and lower borrowing costs exist.

🎯 Strategy

Used

Sequential Logic

Application: Identify the initial exogenous change (improved credit availability), follow its effect on borrowing costs, then the firm's investment decision, and finally the graphical implication.

Final Logic: The progression is Credit Availability → Lower Borrowing Cost → Higher Autonomous Investment → Upward Shift of Investment Line, corresponding to 3 → 4 → 1 → 2.

🧠 Memory Trick

"Credit → Cost ↓ → Investment ↑ → Line ↑."

📚 Class XII – Introductory Macroeconomics – Chapter: Determination of Income and Employment – Topic: Determinants of Autonomous Investment

9 The total Aggregate Demand curve (AD=C+I) is derived structurally by ________.

A multiplying the slopes of both variables algebraically.

B drawing a completely new 45° angle from the origin.

C vertically adding the constant autonomous investment to the consumption function at each income level.

D plotting the inverse of the marginal propensity to save.

💡 Short Explanation

Aggregate Demand is the sum of Consumption and Investment. Graphically, investment is added vertically to the consumption curve. This produces the Aggregate Demand curve.

✅ Correct Answer Explanation

Aggregate Demand is defined as: AD=C+I Since autonomous investment is constant, it is added vertically to every point on the consumption function. This shifts the consumption curve upward by the amount of autonomous investment while preserving its slope. Hence, Option C is correct.

❓ Why Other Options Are Incorrect

Option A) Incorrect because slopes are not multiplied.
Option B) Incorrect because the 45° line represents Aggregate Supply, not Aggregate Demand.
Option D) Incorrect because MPS is unrelated to the graphical construction of AD.

🎯 Strategy

Used

Concept Identification

Application: Recall the graphical derivation of the Aggregate Demand curve.

Final Logic: Aggregate Demand is obtained through vertical addition, making Option C correct.

🧠 Memory Trick

"Consumption + Investment = Vertical Addition."

📚 Chapter: Determination of Income and Employment

10 Arrange the sequential logic causing a parallel shift in the Aggregate Demand (AD) curve.
Statements:
1. The AD curve shifts upward in parallel because the slope (c) remains unchanged.
2. The new Aggregate Demand becomes AD_2=C+I+ΔI+cY.
3. An initial state of AD_1=C+I+cY.
4. Autonomous investment increases exogenously by ΔI.

A 4, 2, 1, 3

B 2, 3, 4, 1

C 1, 4, 3, 2

D 3, 4, 2, 1

💡 Short Explanation

The analysis begins with the original Aggregate Demand equation. An exogenous increase in autonomous investment raises autonomous expenditure. This produces a new Aggregate Demand equation. Since the marginal propensity to consume (c) remains unchanged, the AD curve shifts upward in parallel.

✅ Correct Answer Explanation

The logical sequence starts with the original Aggregate Demand equation, AD_1=C+I+cY(3). Next, autonomous investment increases exogenously by ΔI(4). This increase modifies the Aggregate Demand function, giving the new equation AD_2=C+I+ΔI+cY(2). Since only the intercept changes while the slope (c) remains constant, the Aggregate Demand curve shifts upward in parallel (1). Thus, the correct logical sequence is: 3 → 4 → 2 → 1 Hence, Option D is the correct answer.

❓ Why Other Options Are Incorrect

Option A → Incorrect because the original Aggregate Demand equation must be established before introducing the increase in autonomous investment.
Option B → Incorrect because the revised Aggregate Demand equation cannot be written before the increase in autonomous investment occurs.
Option C → Incorrect because the graphical conclusion (parallel shift) can only be drawn after deriving the new Aggregate Demand equation.

🎯 Strategy

Used

Sequential Logic

Application: Begin with the original equation, introduce the exogenous change, derive the revised equation, and then infer the graphical consequence.

Final Logic: The progression is Original AD → Investment Increase → New AD → Parallel Shift, corresponding to 3 → 4 → 2 → 1.

🧠 Memory Trick

"Original AD → Ī ↑ → New AD → Parallel Shift."

📚 Class XII – Introductory Macroeconomics – Chapter: Determination of Income and Employment – Topic: Parallel Shift of the Aggregate Demand Curve

11 Match the following elements for interpreting the 45° Supply Line graphically.

List I	List II
1. 45° line graphical representation	a. GDP / Total Income
2. X-axis variable	b. Aggregate Supply behavior in fixed-price model
3. Y-axis variable	c. The total planned output by producers
4. Ex ante AS definition	d. Aggregate Demand / Aggregate Supply values

A 1-a, 2-b, 3-c, 4-d

B 1-b, 2-a, 3-d, 4-c

C 1-c, 2-d, 3-a, 4-b

D 1-d, 2-c, 3-b, 4-a

💡 Short Explanation

The 45° line represents Aggregate Supply in the fixed-price model. The X-axis measures GDP or Total Income. The Y-axis measures Aggregate Demand and Aggregate Supply values. Ex ante Aggregate Supply refers to the total planned output by producers.

✅ Correct Answer Explanation

The correct matching is: 45° line graphical representation → Aggregate Supply behavior in fixed-price model (b) X-axis variable → GDP / Total Income (a) Y-axis variable → Aggregate Demand / Aggregate Supply values (d) Ex ante AS definition → The total planned output by producers (c) Thus, the correct sequence is: 1 → b 2 → a 3 → d 4 → c Hence, Option B is the correct answer.

❓ Why Other Options Are Incorrect

Option A. 1-a, 2-b, 3-c, 4-d → Incorrect because the 45° line does not represent GDP, and Ex ante AS is not Aggregate Demand/Aggregate Supply values.
Option C. 1-c, 2-d, 3-a, 4-b → Incorrect because the X-axis represents income, not Aggregate Demand/Aggregate Supply values.
Option D. 1-d, 2-c, 3-b, 4-a → Incorrect because the 45° line represents Aggregate Supply behaviour, not Aggregate Demand/Aggregate Supply values.

🎯 Strategy

Option Grouping

Application:

Recall the standard 45° line diagram:
45° Line → Aggregate Supply
X-axis → Income (Y)
Y-axis → AD/AS Values
Ex ante AS → Planned Output
Then match each graphical element accordingly.

Final Logic:

Only Option B correctly matches all four graphical components.

🧠 Memory Trick

"45° → Supply • X → Income • Y → AD/AS Values."

📚 Class XII – Introductory Macroeconomics – Chapter: Determination of Income and Employment – Topic: Aggregate Supply Curve (45° Line)

12 Match the properties at a specific point A on the 45° line where GDP is exactly 1000.

List I	List II
1. Horizontal coordinate value	a. Output supplied identically matches output value
2. Vertical coordinate value	b. 1000 (Income dimension)
3. Aggregate Supply coordinate (Point B)	c. 1000 (Supply dimension)
4. Meaning of equality on the line	d. Point B on the vertical line corresponding to A

A 1-a, 2-b, 3-c, 4-d

B 1-b, 2-c, 3-d, 4-a

C 1-c, 2-d, 3-a, 4-b

D 1-d, 2-a, 3-b, 4-c

💡 Short Explanation

At any point on the 45° line, horizontal and vertical values are equal. If GDP is 1000, Aggregate Supply is also 1000. This equality is the defining property of the 45° line.

✅ Correct Answer Explanation

The correct matching is: 1. Horizontal coordinate value → b. 1000 (Income dimension) 2. Vertical coordinate value → c. 1000 (Supply dimension) 3. Aggregate Supply coordinate (Point B) → d. Point B on the vertical line corresponding to A 4. Meaning of equality on the line → a. Output supplied identically matches output value Thus, the correct sequence is: 1-b, 2-c, 3-d, 4-a Hence, Option B is correct.

❓ Why Other Options Are Incorrect

Options A, C, and D incorrectly interchange the meanings of the horizontal coordinate, vertical coordinate, and equality property.

🎯 Strategy

Used

Graph Interpretation

Application: Apply the property that every point on the 45° line has equal horizontal and vertical coordinates.

Final Logic: Only Option B satisfies all graphical relationships.

🧠 Memory Trick

"45° Means Income = Output."

📚 Chapter: Determination of Income and Employment

13 If ex ante Aggregate Demand is physically greater than ex ante Aggregate Supply, the immediate operational result in the economy is ________.

A an extreme jump in the fixed price level.

B a spontaneous reduction in the Marginal Propensity to Save.

C a collapse in autonomous consumption.

D unintended depletion of inventories, prompting producers to increase output.

💡 Short Explanation

When planned demand exceeds planned output, firms sell more than expected. Inventories fall unexpectedly. Producers respond by increasing production.

✅ Correct Answer Explanation

When Ex ante AD>Ex ante AS, buyers demand more goods than firms planned to produce. As a result, firms satisfy excess demand by drawing down existing inventories. This unintended depletion of inventories signals producers to increase future output until equilibrium is restored. Hence, Option D is correct.

❓ Why Other Options Are Incorrect

Option A) Incorrect because the model assumes fixed prices in the short run.
Option B) Incorrect because MPS does not change automatically due to excess demand.
Option C) Incorrect because autonomous consumption is independent of current demand conditions.

🎯 Strategy

Used

Concept Application

Application: Apply the Keynesian adjustment mechanism when Aggregate Demand exceeds Aggregate Supply.

Final Logic: AD > AS → Inventory Depletion → Output Increases, making Option D correct.

🧠 Memory Trick

"Demand > Supply → Stocks Empty → Produce More."

📚 Chapter: Determination of Income and Employment

14 Match the following graphical steps utilized for determining macroeconomic equilibrium.

List I	List II
1. Draw the 45° line from the origin	a. Represents the C + I ex ante demand curve
2. Plot the AD line	b. Represents the AS = Y condition
3. Locate the intersection	d. Marks the specific point E where AD = AS
4. Drop a perpendicular line to the X-axis	c. Determines the exact equilibrium output Y*

A 1-d, 2-c, 3-a, 4-b

B 1-a, 2-b, 3-c, 4-d

C 1-b, 2-a, 3-d, 4-c

D 1-c, 2-d, 3-b, 4-a

💡 Short Explanation

The 45° line represents Aggregate Supply (AS = Y). The AD curve represents planned expenditure (C + I). Their intersection gives equilibrium. Dropping a perpendicular to the X-axis gives equilibrium income.

✅ Correct Answer Explanation

The correct matching is: 1. Draw the 45° line from the origin → b. Represents the AS = Y condition 2. Plot the AD line → a. Represents the C + I ex ante demand curve 3. Locate the intersection → d. Marks the specific point E where AD = AS 4. Drop a perpendicular line to the X-axis → c. Determines the exact equilibrium output Y* Thus, the correct sequence is: 1-b, 2-a, 3-d, 4-c Hence, Option C is correct.

❓ Why Other Options Are Incorrect

Option A) Incorrect because the 45° line is not the equilibrium point.
Option B) Incorrect because the AD line does not represent Aggregate Supply.
Option D) Incorrect because equilibrium output is obtained only after locating the intersection.

🎯 Strategy

Used

Option Grouping

Application: Match each graphical step with its purpose in determining equilibrium.

Final Logic: Only Option C correctly represents the graphical procedure.

🧠 Memory Trick

**"45° → AD → E → Y*."**

📚 Chapter: Determination of Income and Employment

15 Match the sequence of algebraic steps for deriving the equilibrium output Y.

List I	List II
1. Y=C+I+cY	a. The final solution formula for equilibrium income
2. Y-cY=A(where A=C+I)	b. Factoring out Yfrom the left side
3. Y{1-cX}=A	c. The initial equilibrium substituting the demand components
4. Y=A1-c	d. Grouping the Yterms on one side of the equation

A 1-a, 2-b, 3-c, 4-d

B 1-c, 2-d, 3-b, 4-a

C 1-d, 2-a, 3-b, 4-c

D 1-b, 2-c, 3-d, 4-a

💡 Short Explanation

The equilibrium equation is simplified step-by-step by: Substituting Aggregate Demand, Rearranging terms, Factoring out Y, Solving for equilibrium income.

✅ Correct Answer Explanation

The correct matching is: 1. Y=C+I+cY→ c. Initial equilibrium equation 2. Y-cY=A→ d. Grouping the Y terms 3. Y(1-cX)=A→ b. Factoring out Y 4. Y=A/1-c→ a. Final equilibrium formula Thus, the correct sequence is: 1-c, 2-d, 3-b, 4-a Hence, Option B is correct.

❓ Why Other Options Are Incorrect

Options A, C, and D incorrectly arrange the algebraic derivation.

🎯 Strategy

Used

Sequential Algebra

Application: Follow the derivation exactly as given in NCERT.

Final Logic: Rearranging precedes factoring, and factoring precedes the final solution.

🧠 Memory Trick

"Substitute → Rearrange → Factor → Solve."

📚 Chapter: Determination of Income and Employment

16 If the savings function is
S=-100+0.2Y
and autonomous investment I=50, what is the exact algebraic equilibrium income?

A 750

B 500

C 250

D 1500

💡 Short Explanation

At equilibrium, S=I Substitute the given investment into the savings function and solve for income.

✅ Correct Answer Explanation

Given: S=-100+0.2Y At equilibrium, S=I Since I=50, we get -100+0.2Y=500.2Y=150Y=150/0.2=750 Therefore, the equilibrium income is ₹750. Hence, Option A is correct.

❓ Why Other Options Are Incorrect

Option B) Incorrect because it results from an incorrect substitution.
Option C) Incorrect because it ignores the negative autonomous saving.
Option D) Incorrect because the equation is solved incorrectly.

🎯 Strategy

Used

Formula Application

Application: Use the equilibrium condition S = I.

Final Logic:

100+0.2Y=50Y=750
Therefore, Option A is correct.

🧠 Memory Trick

"At Equilibrium: Savings = Investment (S = I)."

📚 Chapter: Determination of Income and Employment

17 Consider the following statements regarding the graphical change associated with the Paradox of Thrift.
Statements:
1. An increase in the Marginal Propensity to Save (MPS) reduces the Marginal Propensity to Consume (MPC).
2. A lower MPC makes the Aggregate Demand (AD) curve flatter by reducing its slope.
3. The Aggregate Demand curve swings downward, leading to a lower equilibrium level of income.
4. The 45° Aggregate Supply line changes its slope during the Paradox of Thrift.

A 1 and 2 only

B 2 and 4 only

C 1, 2 and 3 only

D 1, 2, 3 and 4

💡 Short Explanation

Higher MPS implies lower MPC. A lower MPC reduces the slope of the Aggregate Demand curve. The AD curve swings downward, reducing equilibrium income. The 45° Aggregate Supply line never changes its slope.

✅ Correct Answer Explanation

Evaluate each statement: Statement 1: Correct. Since MPC + MPS = 1, an increase in MPS necessarily reduces MPC. Statement 2: Correct. The slope of the Aggregate Demand function AD = Ā + cY is determined by c (MPC). A lower MPC makes the AD curve flatter. Statement 3: Correct. As the AD curve swings downward due to a lower MPC, equilibrium income falls, illustrating the Paradox of Thrift. Statement 4: Incorrect. The 45° Aggregate Supply line always has a slope of 1 and does not change during the Paradox of Thrift. Therefore, Statements 1, 2 and 3 are correct. Hence, Option C is the correct answer.

❓ Why Other Options Are Incorrect

Option A: Incorrect because Statement 3 is also correct.
Option B: Incorrect because Statement 1 is correct and Statement 4 is false.
Option D: Incorrect because Statement 4 is false.

🎯 Strategy

Statement Verification

Application:

Evaluate each statement independently using the relationship between MPC, MPS, and the Aggregate Demand curve.

Final Logic:

Higher Saving → Lower MPC → Flatter AD Curve → Lower Equilibrium Income, while the 45° line remains unchanged. Therefore, Option C is correct.

🧠 Memory Trick

"Save More → Spend Less → MPC Falls → AD Falls."

📚 Chapter: Determination of Income and Employment

18 Arrange the logical sequence of the multiplier mechanism when autonomous investment shifts upward.
Statements:
1. Producers increase output in successive rounds to clear the recurrent excess demand.
2. Next-round consumption expenditure goes up by c×10.
3. Autonomous investment exogenously increases by ₹10.
4. The total factor income of the economy initially goes up by ₹10.

A 3, 4, 2, 1

B 4, 2, 1, 3

C 2, 3, 4, 1

D 1, 3, 4, 2

💡 Short Explanation

The multiplier process begins with an autonomous increase in investment. The initial investment raises national income by the same amount. Households spend a fraction of this additional income according to the marginal propensity to consume. Producers respond by increasing output, leading to successive rounds of income generation.

✅ Correct Answer Explanation

The multiplier mechanism starts when autonomous investment increases exogenously by ₹10 (3). This additional investment immediately raises the total factor income of the economy by ₹10 (4). As households receive this additional income, they spend a fraction of it, causing next-round consumption expenditure to increase by c×10(2). The rise in consumption creates further excess demand, prompting producers to increase output in successive rounds (1). This process continues until a new equilibrium level of income is reached. Thus, the correct logical sequence is: 3 → 4 → 2 → 1 Hence, Option A is the correct answer.

❓ Why Other Options Are Incorrect

Option B → Incorrect because income cannot increase before the initial rise in autonomous investment.
Option C → Incorrect because consumption cannot increase before households receive additional income from the investment.
Option D → Incorrect because producers increase output only after the initial investment and the resulting increase in income and consumption.

🎯 Strategy

Used

Sequential Logic

Application: Begin with the initial investment shock, then trace its effect on income, followed by induced consumption, and finally the increase in output that drives the multiplier process.

Final Logic: The sequence follows Investment → Income → Consumption → Output → Repeat, corresponding to 3 → 4 → 2 → 1.

🧠 Memory Trick

"Invest → Income → Consume → Produce."

📚 Class XII – Introductory Macroeconomics – Chapter: Determination of Income and Employment – Topic: Investment Multiplier Process

📄 Passage

"When autonomous investment increases, the AD₁ line shifts in parallel upwards and assumes the position AD₂. Thus, an initial increment in autonomous expenditure has a multiplier effect on the equilibrium values of aggregate demand and output. Aggregate demand and output increase by an amount larger than the initial increment in autonomous expenditure because each increase in income induces additional consumption expenditure in successive rounds."

According to the passage's explanation of the AD shift, an exogenous increase in autonomous investment forces equilibrium income to:

A Increase by an amount exactly identical to the initial increment.

B Decrease proportional to the Marginal Propensity to Save.

C Remain completely static due to inventory buffers.

D Increase by an amount larger than the initial increment in investment.

💡 Short Explanation

Autonomous investment creates a multiplier effect. Each round of additional income generates further consumption. Therefore, total income rises by more than the initial investment.

✅ Correct Answer Explanation

The passage explains that an increase in autonomous investment shifts Aggregate Demand upward. Through the multiplier process, households spend part of their additional income, creating successive rounds of expenditure and production. As a result, equilibrium income increases by more than the initial investment increase. Hence, Option D is correct.

❓ Why Other Options Are Incorrect

Option A) Incorrect because the multiplier causes a larger increase.
Option B) Incorrect because income does not decrease after investment increases.
Option C) Incorrect because inventories only initiate adjustment; they do not prevent equilibrium changes.

🎯 Strategy

Used

Passage-Based Application

Application: Apply the multiplier concept explained in the passage.

Final Logic: Initial investment creates multiple rounds of spending, increasing income by more than the original investment.

🧠 Memory Trick

"One Investment → Many Incomes."

📚 Chapter: Determination of Income and Employment

📄 Passage

At the new equilibrium position (AD₂), how does the total output mathematically compare to the initial parallel shift in Aggregate Demand?

A It is less than the shift due to savings leakage.

B The total output increase is a mathematical multiple of the initial shift, given by 1/1-c.

C It is entirely absorbed by an immediate inflation spike.

D It completely replaces all prior autonomous consumption.

💡 Short Explanation

The multiplier magnifies the initial increase in autonomous expenditure. The multiplier is: k=1/1-c Therefore, output increases by a multiple of the initial investment.

✅ Correct Answer Explanation

The investment multiplier is: k=1/1-c where c is the Marginal Propensity to Consume. If autonomous investment increases by ΔI, the total increase in equilibrium income is: ΔY=k×ΔI Thus, equilibrium output rises by a multiple of the initial shift in Aggregate Demand. Hence, Option B is correct.

❓ Why Other Options Are Incorrect

Option A) Incorrect because the multiplier ensures output increases by more than the initial shift (unless MPC = 0).
Option C) Incorrect because the simple Keynesian model assumes fixed prices.
Option D) Incorrect because autonomous consumption is not replaced by investment.

🎯 Strategy

Used

Formula Application

Application: Apply the investment multiplier formula.

Final Logic:

ΔY=1/1-c×ΔI
Therefore, Option B is correct.

🧠 Memory Trick

"Multiplier = 1 ÷ (1 − MPC)."

📚 Chapter: Determination of Income and Employment

CUET UG Economics Booster Test 2 - Equilibrium and Determination

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